How Land Trusts Work

A real estate land trust is just one of many varieties of trusts. A trust, in legal terms, is any arrangement in which one party holds property for another party's benefit. The property owner never gives up control of the assets — cash, stocks, bonds, real estate — but the trustee becomes the owner for legal purposes.

The function of all trusts is to shield the asset owner from certain legal proceedings and tax exposure. A wealthy couple might create a trust to shield some of their assets from estate tax when they die. In the case of real estate land trusts, the trust greatly simplifies the process of passing on the real estate to heirs or new owners. A trust can be either irrevocable — where the trust arrangement cannot be canceled — or revocable, meaning it can be dissolved at any time. There are four necessary parties to every trust agreement [source: West's Encyclopedia of American Law]:

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The first is the owner of the property, called the grantor or settlor.

Then there's the property or asset itself, known in legal parlance as the trustres or principal.

The person or entity that holds the property is the trustee.

Anyone who benefits from the assets in the trust is the beneficiary.

Let's use a hypothetical example of a real estate land trust. John Smith and four of his business partners own an apartment building. They decide to transfer the property into a land trust. They choose a law firm to act as the trustee. Since John and his business partners earn rental income through the apartment building, they are also the beneficiaries of the trust.

A real estate land trust that follows the "Illinois" model is a revocable trust, meaning it can be altered or canceled by the property owner at any time. On the next page, we'll list more of the benefits, and a few of the potential drawbacks, of creating a real estate land trust.

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